Why some reorganizations work and others fail

Even a corporate revamping inspired by state-of-the-art design principles won't succeed if not driven by a powerful, well-timed business idea adapted to social realities. McKinsey explains how to pull it off.

1 June 20032:00 pm BST

One of the most powerful levers for change available to a chief executive is reorganization. At its best, it can sweep away inertia and cynicism, and energize employees with a common sense of purpose, thereby making it easier to implement a new strategy, to digest an acquisition or to improve productivity.

But reorganizations frequently fail, even when they draw on a wealth of practical experience and decades of intense academic research that have generated proven principles for organizational design.

And unfortunately, failed reorganizations don't just leave a company back where it started: They can usher in still more inertia and cynicism among employees.

Opposition from employees is a major reason for the problems that bedevil so many reorganizations. When the chief executive announces one, the knee-jerk reaction of most employees is to resist. Change, after all, tends to provoke anxieties and conflicts, and employees are not always convinced of the need for it. Indeed, the common view is that CEOs reorganize when they don't really know how to deal with difficult issues.

So, although state-of-the-art design is vital for a successful reorganization, it isn't enough. In our experience, sustained organizational change and strategic results can be achieved only when three conditions are met. A reorganization must be based on a simple and motivating business idea so that skeptical employees and customers understand the reason for the shake-up and its meaning for them. Second, the timing of the launch must be considered: When will the reorganization have the best chance to rally support from employees and thus help the company achieve its strategic objectives?

The CEO and the design team also must be realistic, taking into account constraints such as regulatory requirements and the usual reluctance of managers to give up their responsibilities. Only when all these conditions have been met should a company start drawing up detailed technical options for the restructuring and, finally, test them to see if they can deliver.

The power of an idea
When considering any major reorganization, a CEO should first ponder two questions: Why reorganize? and What does the effort seek to achieve? If the answers form the basis of a powerful business idea, it makes sense to proceed, but without one, the reorganization will probably be flawed.

A powerful business idea isn't the same thing as a strategy--that is, a detailed course of action for achieving specific goals. Rather, it is a motivating and unifying proposition that, communicated well, drives the whole reorganization. Without such an idea, the story the company tells the press will be irritatingly vague, employees will be confused, customers will find it pointless to deal with new faces, and the reorganization won't overcome the inevitable resistance to change.

Take, for example, the case of a CEO who can't, for whatever reason, address performance problems directly and therefore decides to reorganize the company in order to dismiss low-performing managers or to stir up energy by shifting around complacent ones.

The reorganization's goals might be fine, but the lack of a convincing and motivating business idea--or suspicions that the official story is a smoke screen for other plans--leaves the door open for covert manipulation of the system. Instead of taking responsibility for the complex challenges of the reorganization, managers and other employees jump to the wrong conclusions about what it will mean for them and become defensive.

They ignore new demands, look for excuses not to act or try to divert responsibility to somebody else. They may suggest that the company implement the reorganization in ways they know to be unrealistic or that protect their own future. Under these conditions, a reorganization is likely to do more harm than good.

That is what happened when a mining company announced a reorganization, allegedly to mark its transformation from a national into a global enterprise. The CEO claimed that the company needed to modernize its hidebound management practices to make it more effective in the new global role--a compelling business idea but for the fact that the CEO's real objective was to reduce head count in the corporate center. The result: a failed reorganization, disenchanted employees and likely skepticism about any future moves to address the company's continuing need for new management processes.

A limited head count exercise should be announced as such, and not dressed up as a major reorganization. This isn't to say that head count reductions can never be an element--or even the key element--of a good business idea. Sometimes a company can survive only by slashing costs through major layoffs and by simultaneously redirecting resources to, say, marketing or product development. Survival can be a very powerful business idea.

Even such an idea can fail, however, if it isn't communicated to employees. Consider the case of a major industrial corporation that had to revamp its corporate center to reflect the redirection of its focus from acquisition-driven growth (requiring strong mergers and acquisitions and legal skills at headquarters) to operations, which call for a different type of expertise.

Some executives stood to lose their jobs, but the CEO was less than open about the aims of the reorganization and how it would affect the staff. The result was that business-unit and line managers--whose interests the plan actually promoted--largely ignored it, while threatened functional leaders at headquarters actively resisted, claiming that this or that function was critical to the company's future. Despite a strong business idea, good timing and a solid design for a new management structure, the reorganization failed.

By contrast, the organizational design of the recently established Transport for London (TfL) has been driven by a powerful business idea that was communicated clearly. When TfL was established, it assumed overall responsibility for managing London's underground and light-rail systems, as well as for buses, taxis and street management (for instance, road-traffic control and the repair and maintenance of major highways)--all previously managed by separate agencies. The establishment of TfL was part of a move by the U.K. government to devolve power to agencies that wouldn't be bound by the rules controlling the way ordinary government bodies set policies, hire employees, and so on.

The business idea was to provide an integrated system for London by coordinating modes of transport that had previously been managed independently with little concern for the people who used them or overall efficiency. Building on the business idea, TfL designed a new integrated organization that coordinated the strategies of its constituent parts while keeping operations highly decentralized.

Years of work will be needed to turn the business idea into a series of strategic initiatives (to add new rail and road infrastructure, for example) and to coordinate the routes and timetables of the underground, light-rail and buses for long-suffering Londoners and visitors. The task won't be an easy one, and TfL's ultimate success is by no means assured. But it is clear, despite scattered and inevitable cases of turf defense, that the idea of integrated transport, with a focus on cooperation rather than competition, has energized the employees of the merging organizations who can take satisfaction in working toward a clear goal that is meaningful to both them and their customers.

A powerful business idea has opened the door to new organizational solutions, attracted fresh management talent, unified the plethora of external stakeholders (such as London boroughs and national agencies) and made it possible to introduce radical new strategies.

The right time
A powerful business idea needs good timing: The CEO, other senior executives and the project team must find a moment when it is possible both to overcome the inertia of employees and to achieve the reorganization's strategic objectives. Achieving them will depend on many factors, including stakeholder sentiment--the willingness of shareholders or governments to provide financing, for instanc-and market conditions.

There are no simple frameworks or formulas for getting the timing right. This is one of the toughest tasks facing a chief executive, and it inevitably entails trade-offs. A CEO can begin by asking whether the organization is receptive to the plan and can actually implement it. It is also important to think about whether its benefits outweigh the disruption and distraction it will inevitably bring.

This is one of the toughest tasks facing a chief executive, and it inevitably entails trade-offs.

Managers and other employees tend to be more receptive to change during major discontinuities, such as mergers or acquisitions, since at this point it is clearly important to assign key roles and to decide how vital processes should be executed. One automotive group surprised corporate analysts by not attempting a reorganization at a long-established-but-struggling takeover target immediately after it was acquired, when its staff would have expected moves of this sort.

Several years later, as the subsidiary continued to languish, its parent company suddenly shed this hands-off philosophy, to which the subsidiary had by then become accustomed, and announced a big reorganization that caused much confusion and resistance. The parent company's plans were subverted, and many of the subsidiary's best people left. Clearly, while employees rarely react to a reorganization by uncorking the champagne, at certain times they will be predisposed to accept change and at other times to resist it fiercely. In this case, the moment when a reorganization would have worked had passed.

Nonetheless, quick action after an acquisition doesn't always feel right. Every reorganization involves unique trade-offs, and its timing must be assessed individually.

The idea of integrated transport for London was ripe for execution when TfL was created, thanks to strong support from a new mayor, opportunities to receive new government funding and the overwhelming fact of urban congestion, which made it hard for national and local bodies to defend established interests. Luck can certainly be a factor, but good timing is also a question of recognizing when the basic preconditions for success are in place and when trade-offs must be made.

TfL waited for a year after its inception to begin reorganizing London's transport because it wished to make sure that its senior people had the right abilities. It might have chosen to wait longer, until it had assumed responsibility for the London underground system, but decided that further delay would make its task more difficult: Urgent decisions about London-area transport would have been taken on a less-than-integrated basis, and the employees of the various agencies would have become yet more entrenched in their separate identities. The underground system has since become part of TfL.

Reality intrudes
Every organization and chief executive is constrained by social realities such as commitments to people, regulatory requirements, issues of managerial "ownership," and prevailing mind-sets formed by traditional practices. Reorganizations that fail to recognize these constraints from the start will run aground as each of them emerges to hamstring the design.

Sometimes, for example, a company's design team hasn't been told about (or fails to take into account) relevant people issues, such as promises to certain executives. When a bank was designing a flat organizational structure, with business-unit heads reporting directly to a managing director, the design team learned at a late stage that the CEO had promised the job to a headquarters executive who didn't have the operational experience essential for it. The new organization had to be redesigned to include operations-savvy executives who supported the managing director, thereby eroding the original "lean" concept.

Regulatory constraints can be overlooked when, say, international companies reorganize to streamline their management structures. Global utility companies are a case in point. In fully deregulated markets, it is natural for them to divide the management of generation, distribution and retailing, but this split doesn't make sense in most of the world where deregulation is less-advanced and regulators may not allow such a division of responsibility. (Even if they do, they will want to deal with one executive, not three.) Several global utility companies recognized this constraint only at a late stage in their design of regional subsidiaries, and they had to alter it accordingly.

Dealing with social realities isn't always about adapting the design to them. Sometimes, particularly when issues of ownership and mind-sets are involved, a constraint lies at the core of the business idea that inspires the reorganization and must be eliminated if it is to succeed. In all industries, for example, managers of business units are reluctant to give up the responsibilities, resources and control that come with their jobs.

This resistance can cause problems when it makes sense to centralize and share certain functions across a company. In one construction firm, each unit owned its own engineering resources and took pride in doing everything itself. To create a single engineering unit serving all of these businesses, the CEO had to recognize, analyze and overcome this constraint.

He succeeded in showing his managers that he understood their fear that the centralized unit might not deliver what the individual businesses needed. In this climate of trust, he could sell his proposal for a single engineering organization to the managers by demonstrating its benefits and assuring them that service levels would be safeguarded. Obviously, when ownership and mind-set constraints must be tackled, a powerful business idea is essential.

To prevent constraint problems from emerging late in the reorganization process, a company's design team should ideally diagnose and analyze potential constraints before sitting down at the drawing board. (Detailed interviews with the CEO and other senior executives have proved to be one effective tool.) Then the CEO, senior managers and the design team's leaders must discuss the constraints and assess whether and how they can be overcome. Sometimes the answer will be negative, and it may be wiser not to reorganize.

Testing the design
An overarching idea, optimal timing, social realities taken into account--with these conditions met, the organization can get down to the task of developing detailed options for the reorganization. When they are ready, it is important to test them: A multitude of different designs might seem good in theory but wouldn't work in practice because they hadn't been tailored to the strategies, capabilities and organizational needs of a particular enterprise.

The road to reorganization has no shortcuts.

All too often, companies that reorganize merely copy the organizational charts of successful companies without recognizing that they may be operating under completely different conditions. The much admired flat organizational structure of General Electric, for example, is tailored to its strategy of operating only in mature and stable industries in which execution is the key to success.

As a result, GE doesn't need a central R&D department or other central resources that often imply larger and more complex corporate structures. Its organizational model would be quite wrong for a company pursuing a business idea in an innovation-driven industry such as high-technology or telecommunications, in which a powerful central R&D unit is essential to capture economies of scale and to ensure that technology platforms are consistent across the company.

The road to reorganization has no shortcuts. Establishing and integrating all of the conditions for success is hard work, and only a fraction of major reorganizations get all of them right. But in our experience, only that fraction achieves sustained organizational change and the strategic results that follow from it.